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DEMONETISATION GAMBLE

Can the world’s second-most populous country really dream of a cash-free future?

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Narendra Modi is in a hurry to transform the way India’s economy works.

A month after the Indian prime minister surprisingly withdrew all the Rs500 and Rs1,000 notes—which accounted for as much as 86% of the cash in circulation—his government, on Dec.08, offered a slew of incentives to push millions of Indians towards digital payments.

“Its a part of our campaign to incentivise people, to persuade people,” Arun Jaitley, India’s finance minister, said during a press conference. “I think incentivising people to go digital and shed cash, to the extent it is possible, is good development for the economy.”

Asia’s third-largest economy has one of the world’s highest cash-to-GDP ratios—nearly 12% as compared to around 3.9% in Brazil and 3.7% in South Africa. Just last year, 78% of all consumer payments in India were made by cash, while that number stood between 20% and 25% in developed nations.

In the meantime, India’s opposition parties have upped the ante in the criticism of the Modi government’s lack of preparedness in executing the demonetisation project. Since the move was announced, millions of Indians have been queuing up outside banks and ATMs to withdraw new currency and deposit old notes.

Here are the key initiatives announced by the Modi government on Dec.08:

Discounted fuel and travel: India’s government-owned fuel retailers will soon offer a discount of 0.75% to consumers on the purchase of petrol or diesel if the payment is made digitally.

The government estimates that nearly 45 million Indians buy fuel worth Rs1,800 crore daily. Of this, 20% was paid digitally until the demonetisation scheme was introduced, after which the number swelled to 40% in November. ”The incentive scheme has the potential of shifting at least 30% more customers to digital means which will further reduce the cash requirement of nearly Rs2 lakh crore per year at the petrol pumps,” the government said in a statement.

The government will also offer a 10% discount for toll payments on national highways on use of RFID (radio frequency identification) cards from next year.

More card-swiping machines: India currently faces a massive shortage of point of sale (PoS) machines for card transactions. In fact, the world’s second-most populous country, has one of the lowest PoS terminal penetration, with only 693 machines per million people. Brazil has 32,995 terminals per million people and China and Russia both have around 4,000 terminals per million people. Modi’s government will now deploy two PoS devices each, for some 100,000 villages which have a population of less than 10,000.

Rail discounts: India’s railways carry around 23 million passengers daily. The government will provide a discount of 0.5% to consumers for monthly and seasonal tickets, if they are paid for digitally.

“As more and more passengers will shift to digital means, the cash requirement may get reduced by Rs1,000 crore per year in (the) near future,” the media statement said. In addition, the government will also provide a free accident insurance cover of Rs10 lakh per passenger if they purchase tickets online.

Insurance discounts: India’s public sector insurance companies account for 58% of the insurance market. These companies will discount up to 10% of the premium in general insurance policies and 8% in the new life policies of Life Insurance Corporation if the payment is made digitally.

Is it worth it?

An extremely small fraction of the Indian population pays income tax—only 1% paid in the 2013 fiscal—and a huge chunk of wealth goes without being formally recorded.

With the push towards a digital economy, transactions could be documented and tax evaders would find it difficult to hoard money. “As cash gets used for fewer and fewer transactions, it will become easier for authorities to crack down on tax evasion,” Mihir Sharma, a columnist for Bloomberg, said earlier this year. “The best way to eliminate black money is to get rid of the money.”

Then there’s also the cost of printing and circulating currency. India currently spends some Rs21,000 crore (pdf) annually towards managing and handling currency. Printing notes is expensive, too. The cost also inches upwards based on the denomination. For instance, to print one Rs100 note, it costs the Reserve Bank of India (RBI) Rs1.79. The cost of printing the old Rs500 and Rs1,000 notes was Rs2.5 and Rs3.17 respectively.

“Paying through digital mode should always lead to reduction in cost and this cost should be forwarded to the end consumer. (The) government’s move of incentivising people is an excellent move and will bring in more and more participation from (the) under- and unbanked population,” Naveen Surya, chairman, Payment Council of India, and managing director of ItzCash, a digital payment service provider, said in a statement on Dec. 08.

A study conducted by Moody’s Analytics for financial services firm Visa in March 2016 found that the use of electronic payment methods in India added some $6.08 billion to the economy between 2011 and 2015. McKinsey too expects (pdf) that moving to digital finance will provide India with a $700 billion opportunity that could give an 11.8% boost to the GDP by 2025.

India is expected to carry out nearly $500 billion worth of transactions digitally by 2020—nearly ten times the existing rate, according to a report by Google India and The Boston Consulting Group.

Challenges

While the benefits are many, the challenges are also equally humongous.

For one, the infrastructure required for enabling 1.3 billion Indians to access digital banking isn’t robust. There are only 342.65 million internet connections (pdf) in the country, as of March 2016. So, even if we assume that each connection belongs to one user (which isn’t likely), only 26% of Indians are connected to the internet.

Then there’s the issue of insufficient PoS machines. While the government is trying to install more machines, many of these are in urban areas. India has 712.5 million debit cards and 26.38 million credit cards, but at the same time, there were only 1.4 million PoS machines, according to data as of August 2016.

“Some estimates indicate that to reach the average levels of BRIC countries, India will need 20 million PoS terminals as against the current 1.2 million,” R Gandhi, a deputy governor of the RBI said last year. ”This is a tall order.”

Other links in the digital infrastructure, such as payment gateways too, aren’t entirely equipped to handle a huge load of transactions. In fact, almost a week into demonetisation, some servers of Visa had already crashed, website Medianama reported on Nov. 14.

India’s record of cyber security isn’t great either. In October, millions of debit cards in the country were hacked into, making consumers vulnerable. The cards involved belonged to some of the biggest banks in the country such as the State Bank of India, HDFC Bank and ICICI Bank.

Cyber security experts had then told Quartz that India lacks a stringent consumer protection framework when it comes to cyber crimes, and the government needed to ensure better security.

Can Modi fix it?

In his Dec. 08 announcements, Jaitley said the government will issue Rupay Kisan Cards to 43.2 million people who own Kisan Credit Cards—a credit card for farmers. These new Rupay cards will enable the holders to make transactions at PoS machines and ATMs .

To make it easy for Indians in rural areas to access PoS machines, the new machines which were announced by Jaitley will be set up at primary co-operative societies, milk societies and agricultural input dealers, the government said. These will also “facilitate agri-related transactions through digital means,” the government statement added.

The Modi government is also planning to lower transaction costs for digital payments in the country. It has directed public sector banks to charge merchants a maximum monthly rental of Rs100 for PoS terminals and ATMs.

“Nearly 6.5 lakh machines by public sector banks have been issued to merchants who will be benefitted by the lower rentals and promote digital transactions,” the government statement said.

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